What this lesson teaches
I can explain the causes of weak growth, unemployment, and inflation or deflation.
Syllabus 8843, 3.2.2(a). Macroeconomic Issues: Macroeconomic issues and their causes; Undesirable economic growth - persistently low or negative, unsustainable, non-inclusive due to factors such as changes in AD or AS, environmental degradation, inequitable income distribution; Unemployment - demand-deficient, structural, frictional due to factors such as lack of AD, technological changes, mismatch of skills, transition between jobs; Price instability - demand-pull inflation, cost-push inflation, deflation due to factors such as changes in AD, costs of production, productive capacity
Make a guess
Wages rise 10%, and output per worker also rises 10%. Does this push up firms' costs per unit?
- Yes, by 20%, adding both changes.
- Yes. Any wage rise causes cost-push inflation.
- No. Labour cost per unit stays the same.
Show the answer
No. Labour cost per unit stays the same.
If each worker makes 10% more for 10% more pay, the labour cost of each unit is unchanged, so there is no cost-push pressure.
When firms' costs rise across the economy, they raise prices: this is cost-push inflation.
Cost-push inflation happens when production costs rise across the economy, so AS shifts up.
Common causes are higher prices for imported energy, food and materials, supply disruptions, and wages rising faster than productivity.
Unlike demand-pull inflation, it comes with lower output: prices rise while real GDP falls.
Singapore imports most of what it consumes, so much of its inflation is imported. In 2022, rising global energy and food prices pushed headline inflation to about 6%.
- Cause
- Rising costs shift SRAS up.
- Effect
- Prices rise; output falls.
- Singapore
- Much inflation is imported.
Worked example: A pay rise with and without productivity
Pay rises from $20 to $22 an hour. In case A, output per hour rises from 10 to 11 units. In case B, it stays at 10.
- Case A: labour cost per unit = $22 / 11 = $2, the same as before ($20 / 10).
- Case B: labour cost per unit = $22 / 10 = $2.20, a 10% rise.
- Only in case B does the pay rise push up costs per unit.
- Wage rises cause cost-push inflation only when they outpace productivity.
Watch out for this
Any wage rise causes cost-push inflation.
If productivity rises as fast as wages, the cost of each unit does not rise.
Check your understanding
Global oil prices double. What happens in Singapore?
- The price level rises and output rises, because AD shifts right.
- The price level rises and real output falls, because SRAS shifts up.
- Prices stay the same, because the oil is produced abroad, not in Singapore.
Show the answer
The price level rises and real output falls, because SRAS shifts up.
Right. Singapore imports all its oil, so costs rise across the economy.